[Note from Bill: this is a post byVenkat Balasubramani, legal blogger par excellence. I am thrilled that Venkat is breaking, here on Counselor@Law, fresh new developments in this important, ongoing lawsuit. The case is not over, but it's getting juicy, and it throws into one package many of the disparate topics we like to cover on this blog (all that's missing is a securities law angle). Click here for a pdf of the written court ruling Venkat is analyzing.]

Abhyanker, who is a lawyer and well known entrepreneur, alleges that he tried to develop a neighborhood-based networking concept known as “Nextdoor,” that someone else ultimately took and ran with, to form Nextdoor.com. According to him, his Nextdoor idea was a spinoff from his concept called LegalForce, which was a private social network for inventors. He also developed “Fatdoor,” a Wikipedia-like public database of neighbor profiles. [sounds scary from a privacy standpoint!] Fatdoor’s assets were ultimately purchased by Google. In 2007 Abhyanker left Fatdoor (who wanted to bring in a new CEO) and came back to work on his Nextdoor idea.

Abhyanker alleges that he told two people about his Nextdoor ideas and trade secrets: (1) Benchmark Capital; and (2) Sandeep Sood, a designer and contractor for LegalForce. At some point, Abhyanker pitched the Nextdoor idea to VCs, including Benchmark Capital. Although he did not discuss any confidential information in the initial meeting, he supposedly sought and obtained “assurances” from Benchmark that any confidential information disclosed by Abhyanker would be kept confidential. According to him, relying on these assurances, he pitched the Nextdoor idea to Benchmark. In 2007 Abhyanker left Fatdoor (who wanted to bring in a new CEO) and came back to work on his Nextdoor idea. According to him, while he returned to focus on his Nextdoor idea, others were independently working on the Nextdoor concept, and used confidential information and trade secrets to swoop in on the nextdoor.com domain name that Abhyanker had been pursuing for years. The Nextdoor.com founders were Benchmark capital “entrepreneurs in residence,” and Abhyanker alleges that the founders gained access to Nextdoor trade secrets through their work at Benchmark.

These were just the counterclaim wranglings. The case was preceded by a (still-ongoing) proceeding in the Trademark Trial and Appeals Board, and a short-lived state court proceeding (which Abhyanker filed and dismissed).

Abhyanker initially asserted several other counterclaims, but withdrew those and filed an amended pleading asserting only a trade secrets claim. Nextdoor.com (& Sood) moved to dismiss Abhyanker’s trade secret claims.

Adequacy of trade secrets allegations: Nextdoor argued that Abhyanker’s trade secrets claim failed because he failed to set forth the alleged trade secrets with the sufficient degree of particularity. The court rejects this argument, saying that Abhyanker’s laundry list is sufficient, and requiring him to be more specific would run the risk of forcing him to disclose his trade secrets at the pleading stage. Nextdoor also argued that there were no allegations of how it allegedly exploited Abhyanker’s trade secrets, but the court says there are some allegations—principally, Abhyanker alleges that Nextdoor used the bidding history for the nextdoor.com domain to its advantage.

The court does say that the parties should work together to come up with a process for identifying the trade secrets and whittling down Abhyanker’s laundry list. After this process is over, the court says that Nextdoor can revisit the trade secrets issue at the summary judgment phase, hinting that Abhyanker's trade secrets claim may not be all that they are cracked up to be.

Public disclosure of trade secrets: Nextdoor also argued that Abhyanker disclosed the trade secrets in question in a patent application. Nextdoor says that Abhyanker had filed a patent application disclosing much of the trade secrets at issue in connection with his Nextdoor idea; Abhyanker disagrees, and says that the patent application covered Fatdoor (the wiki site) technology. The court does not delve into the details regarding what facts were disclosed in the patent application (presumably because the facts regarding what Nextdoor does are as yet undveloped), but does say that the patent application discloses the use of nextdoor.com in connection with a networking site. The court dismisses Abhyanker’s trade secrets claim to the extent it’s based on Nextdoor.com’s alleged misappropriation of “using the name nextdoor.com in connection with a neighborhood-based social network.”

In addition to the above rulings, the court also (1) says that Abhyanker’s alleged admissions in other proceedings that he does not own the trade secrets at issue (and that the trade secrets were part of FatDoor, which was ultimately acquired by Google) are not necessarily binding against Abhyanker in this matter; and (2) strikes a few of his affirmative defenses.

Finally, the court also denies Abhyanker’s request to disqualify Nextdoor.com’s law firm, Fenwick & West, on the basis that they previously represented LegalForce. Abhyanker says that Fenwick assisted him in protecting his IP for LegalForce, including preparing non-disclosure and invention and assignment agreements. Fenwick, for its part, had an independent Fenwick attorney review the files and billing records. This lawyer concluded that Fenwick did not really help LegalForce with its IP strategy and at most provided LegalForce with some form documents. The court credits Fenwick’s view, rather than Abhyanker’s view, and also says that the matters in question (this dispute and the prior representation of LegalForce) are not related. The court also says that Fenwick was not likely to glean confidential information relevant to this dispute as a result of its limited representation of LegalForce. (The court also notes that Fenwick implemented an ethical screen between the lawyers working on litigation matters against Abhyanker and lawyers who worked on LegalForce, the bulk of whom are no longer at Fenwick anyway.)

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Yikes. A messy dispute that weakly promises to get at the answer of whether, patents aside, ideas are protectable in this context. In terms that will resonate with entrepreneurs, this case gets at the perennial question of "if I have an idea and a domain name, or the name of an app" should I require someone to sign a NDA before I disclose the details?" My money is on the parties running out of gas to pay their lawyers and eventually coming up with some sort of settlement.

Abhyanker has weak trade secrets claims overall. But he was undoubtedly pursuing nextdoor.com. The fact that after pitching it to Benchmark, it showed up as an idea pursued by former Benchmark entrepreneurs in residence can’t look particularly good for Benchmark. (In addition to the domain name, he also pointed out that the prototype used by Nextdoor.com was for the same neighborhood that Abhyanker focused on when he was working with concepts around next-door.) That said, VCs don't sign non-disclosure agreements for this very reason, and although they are from time-to-time accused of taking an idea that they may receive via a pitch and running with it using another team, I don't get the sense that what happened here is wildly outside the expectations of most entrepreneurs. (It's possible that I'm way off on this, feel free to correct me in comments. It's also worth noting that as domain names become scarce and more valuable, Abhyanker's allegations regarding the domain name--while seemingly menial--do get at an important part of a start-up's trajectory.)

I’m curious about why Abhyanker withdrew his breach of contract claims that presumably included claims based on non-disclosure obligations Benchmark agreed to? Common wisdom suggests that non-disclosure agreements are over-rated and may even make you look amateurish, but you wonder whether a robust non-disclosure agreement would have helped Abhyanker in this scenario?

Apart from the merits of the dispute, the disqualification ruling is very interesting. Fenwick, which is one of the go-to firms in Silicon Valley (and in Seattle), works with a huge number of entrepreneurs and ventures. To the extent the judge here would have disqualified it, I would guess it would end up taking a second look at its policies around conflicts and whom it can continue to represent when clients (or former clients) have disputes against one another. I’m not saying its representation of Nextdoor.com against Abhyanker here is improper, but I found it very curious that the court relied heavily on summaries of billing records, when it’s widely known that lawyers in this space often work with smaller clients in the hopes that they may grow into more viable clients—it’s not about billing in the early stages of the relationship. Abhyanker’s testimony about him going to his “family friend,” Fenwick attorney Rajiv Patel, for help regarding intellectual property protections for stuff Abhyanker was developing (based on the partner’s IP expertise) did not put Patel in a particularly favorable light. Abhyanker’s argument is that this IP protection involved protection for situations such as when Abhyanker was pitching the nextdoor concept to Benchmark, or working with contractors such as Sood. How can Fenwick, who signed up to help him with these issues, now represent an adverse party in a lawsuit involving these same issues. Not a terrible argument in my opinion.

Anyway, a crazy dispute that continues to grind on, but one that raised some interesting points.

The takeaway: to the extent you are looking to protect something like an idea and a domain name, I wouldn't rely on trade secrets. Any sort of implied confidentiality obligation is tough to enforce as well. You have to weigh the extent to which doors will slam in your face as a result of requesting an NDA, but that's what would have probably saved Abhyanker here.

Interesting guest post by Scott Kupor of Andreessen Horowitz, on Marc Andreessen's blog, from which I will isolate this quote:

[Through Title III of the JOBS Act,] "we welcome 'the 96%' least-wealthy Americans to invest (via crowdfunding) in the absolute riskiest stage of new company formation—early, seed-stage financings. Somehow, we have concluded that unaccredited investors should be able to likely lose their hard-earned money by investing in the most risky of asset classes. Yet precisely as the risk diminishes dramatically in the subsequent stages of a company’s development, the spoils go only to the wealthy."

The point about non-accredited crowdfunding is clear, though in isolating it from Kupor's post, I've obscured his broader thesis, which moves in the opposite direction: he thinks it is wrong to be excluding the middle class from investing in America's innovation economy.

Now, Kupor's solution is not to lower the accredited investor standard so more members of the American middle-class can invest in the Series B and later rounds of private emerging companies; nor is it to somehow get more Americans involved in secondary trading of private shares. The way to include the investing middle class in the innovation economy, he feels, is to "[shock] the small-cap IPO market back to life." And he suggests some technical means for doing so.

Kupor's perspective is that of a venture capitalist. If you restate his argument in an uncharitable way, he is saying that the solution for the problem of excluding non-accredited investors in value appreciation is not to let them participate in private markets, but instead to suffer them to populate an earlier public market for private investors seeking liquidity.

But I do think he is right about Title III not being the solution to broader participation in startup investing.

Image: Nick D. Clements / Flickr. Thanks to Joe Wallin for the heads up about the Kupor post.

I'm returning home from the ACA 2013 Summit with heightened awareness of how organized angel investing is an international phenomenon.

So I'm thinking of broadening the scope of what is posted at the startuppolicy.org domain.

The buzz in the foyer after a session that included Jenny Tooth's report on policy in the UK was, how about that 105% tax benefit!

That kind of social welfare will never happen in the United States (unless Joe Wallin gets behind it), but, it might not hurt to have a ready link.

So we might organize the list on the domain by country or region of the world.

In terms of US policy, we should make a distinction between state and federal laws or programs.

And speaking of state initiatives: I have heard from someone knowledgeable in the field that six or seven different states now have non--accredited crowdfunding bills in the works. But I only know of two – Washington and North Carolina – on top of the two states – Kansas and Georgia – that have regulatory exemptions in place.

My friend and fellow lawyer Joe Wallin thinks a lot about how laws passed by Congress - often including laws that have good purposes in the appropriate arenas - end up having adverse effects on startups.

I know this about Joe for almost as long as I've known him. In fact, we often collaborate on projects to identify threats to startups and startup investing, such as the Save Reg D campaign.

Even so, I was blown away by an email he sent last week on which I was copied, in which he laid out, bullet by bullet, what amounts to a truly pro-startup federal policy agenda. With Joe's permission, I'm posting his email below and at startuppolicy.org.

Joe Wallin's Ideas:

• Make Section 1202 permanent. Right now, it expires at the end of this year.

• Make the 60 day window on 1045 longer. 60 days is too short in startup land to find a replacement investment.

• Shorten the 5 year holding period under 1202 to 2 years.

• Repeal the bad actor provisions in the Dodd-Frank Bill. These provisions are a form of extreme overkill. They are going to make it a lot harder for startups to startup and grow.

• Repeal the increase the accredited investor threshold in the Dodd-Frank bill. Why make it harder to invest in startups?

• Repeal the second sentence of section 201(a) of the JOBS Act:

(a) Modification of Rules-

(1) Not later than 90 days after the date of the enactment of this Act, the Securities and Exchange Commission shall revise its rules issued in section 230.506 of title 17, Code of Federal Regulations, to provide that the prohibition against general solicitation or general advertising contained in section 230.502(c) of such title shall not apply to offers and sales of securities made pursuant to section 230.506, provided that all purchasers of the securities are accredited investors. Such rules shall require the issuer to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission. Section 230.506 of title 17, Code of Federal Regulations, as revised pursuant to this section, shall continue to be treated as a regulation issued under section 4(2) of the Securities Act of 1933 (15 U.S.C. 77d(2)).

This second sentence is what has hung up the SEC. Why require SEC regulations at all. Repeal the current regulatory barriers directly!

Also, the crowdfunding bill ought to be amended. Bill and I have sets of amendments that are places to start.

By http://profile.typepad.com/1237764140s22740 //
February 19, 2013
in Startups

Yesterday the founder of a startup client and I had a phone conversation about valuing his company for purposes of a first round of outside investment.

I found myself flipping back, mentally, to the charts in the recent Wilson Sonsini 2012 private company valuation report (which I blogged about here; the full report is here).

Particularly at seed and Series A rounds, valuations trend up and down, not just arbitrarily but sometimes with pronounced swings. How early state venture financings happen to be trending is not something a given entrepreneur is going to be able to control.

But you need to know how the market is trending, of course.

What I liked most about the recent Wilson report was a new presentation of the firm's financing trend data, a chart expressed in terms of the impact of the first round of financing on founder equity, relative to outside investor equity.

There are other open resources on the web.

This morning I noticed that the Wall Street Journal's "The Accelerators" blog is running a series on setting valuations. I distill two essential points from the posts I see up there so far: (a) bootstrap if and as far as you can (see Joanne Wilson's post); and (b) if you have to take outside money, don't overprice yourself out of getting that money (see Naval Ravikant's post).

Another new open resource, and a good one: the valuation browser at AngelList. Looking at that data suggests that valuations have, overall, held fairly constant over the last year and a half. Though what's especially cool about the AngelList presentation is that you can filter the data lots of ways and watch the numbers adjust; for example, you can compare valuations for companies associated with Y-Combinator against valuations for those funded by the Alliance of Angels.

Here's a list of the sources mentioned above, with one or two others thrown in for good measure (pun intended):

The new Wilson Sonsini report on private company financing trends is out, and it's even more interesting than usual.

In addition to keeping tabs on median valuations by round and other trends in VC preferred stock investment terms, the 2012 report is now tracking convertible note terms.

You've always been able to go the latest WSG&R report to buttress your argument, say, that pari passu liquidation preferences were normative and trending stronger. Well, now you can go to the report and confirm that a 20% discount on a pre-Series A convertible note is normal.

And there is new, useful, graphic rendering of historical data in the report.

This chart, from the report, shows the impact of first-round equity deals, in which Wilson Sonsini has been involved for the past five years, on the relative equity split between founders and investors. Among other things, it shows that founders keep more of the company post Series-A.

But the founders' line includes the option pool. This passage from the report explains:

"Many founders assume that the split in ownership between investors and founders in the first financing is about even. Since the option reserve almost always comes out of the founders' share, this would result in an approximate split of 50%/30%/20% among investors, founders, and employee stock option plans. The study, however, shows that founders actually have done considerably better than this at almost all times during the past five years. Except for a relatively short period during mid-2009, founders' and investors' percentages have varied in opposition in a narrow band between 45%/35% in favor of investors and 45%/35% in favor of founders through the end of 2011 (again, with a constant 20% for the option reserve)."

By http://profile.typepad.com/1237764140s22740 //
December 12, 2012
in Publishing, Startups

If you haven't seen it yet, check out what the Wall Street Journal has going on online with a series they are calling "The Accelerators."

It looks like the WSJ is commissioning well written, punchy and thematic content from well-known entrepreneurs, angels and VCs, about the startup experience.

What I like most about it is that it is, first and foremost, content. Not pictures, not tiles, not embedded mulitmedia, nothing to pin or swipe or stick in your virtual ear. I don't know about you, but I've lost my tolerance for such bullshit. The window dressing either gets in the way of the actual entertainment value of content (the very best way to be entertained as a reader is to be engaged), or else is a sign that in fact no one is really home and there is no content there.

Editorial care is obviously given to the headlines. The headlines are easily tweeted and supply the surveyer with the theme of the given post.

The posts I've read so far are short, punchy, with voice, and worth reading.

How to organize content that is not book content, not magazine content, that is tough, and I don't think we as a culture have figured it out. The Accelerators seems to commit to organizing the building library by author (as pictured here). I think that works and is reader-friendly, particularly as most of the audience for a service like this is going to be familiar with many of the names. And as you trip across a voice you find engaging and valuable, you can easily scan for additional posts from that person.